Bailout Abuse – distortions occur within 24 hours of Finance Bill

banik bailouts cost tax payerIt is no secret that your author is anti-intervention, we speak at times about market distortions caused by government intervention. The recent finance bill was barely born when Irish Bankers chose to abuse some of the security and opportunities it brought about.

First of all we saw an email go out from Irish Nationwide in the UK going out touting deposit business because the bank was now fully backed by the government. One oversight we will see is that we are now going to do the job of HM Treasury. How? Simply put, the current bill backs Irish banks, not only here, but their branches abroad as well. What that translates into is the Irish state backing sterling deposits for sterling/UK based customers. Obviously there is no issue with clients themselves, they didn’t initiate the finance bill, but is it really the responsibility of the Irish state to extend this protection to other nations?

A further issue is that it will distort markets elsewhere, is it fair to UK banks that Irish banks are now operating in their markets with this guarantee? What would have happened to Irish banks if a foreign bank did this to us a few months ago? During the S&L crisis the banks offering the highest deposit interest rates were the ones in the most trouble, it is often a sign of a last ditch attempt to improve balance sheet positions. This problem was seen again with mortgage firms like IndyMac offering high rate CD’s (cash deposits) right before they went bang.

deposit guarantee chartIt would be reasonable to assume that several Irish banks were in trouble (it is the reason we are told the emergency finance bill is being done), and yet even now, with the guarantees we don’t know exactly who it was that was about to go under. Furthermore, there has been no cash injection to any lender, so the ‘liquidity’ issue was not addressed by this bill, instead it stopped an impending ‘run’ but there has been no more mention of this ‘run’ so where was it coming from? Surely now that the banks have 100% security the public has a right to know? Apparently not. And now that Irish banks are government backed it also means that they can trade recklessly and when push comes to shove they can fall back on the ‘guarantee’.

My issue is that we are rewarding bad behavior. What about the banks who didn’t make errors and who would have really won market share had other banks closed? That is capitalism, you either subscribe to it or you don’t, there are businesses out there who have won the right to gain market share who have had that opportunity stripped from them due to the new state backing and therefore there is no reason why they should not trade recklessly to catch up.

market distortionsOne of the issues with the market in the last decade is that many of the banks knew the game they were playing was flawed but at the same time you couldn’t step away from the table because other banks would win market share with their performance, some however, took that painful decision and the fruits of their prudence are to see their competitors thrive despite bad decisions.

I don’t accept Mr. FitzPatricks excuse that Anglo is suffering because of ‘world conditions’ as he said on the Marian Finucane show, that totally discounts his and his management teams responsibility, if worldwide issues are the sole determinant of Anglo Irish Banks performance then why does he bother showing up to work every day? If his firm performs only due to what happens elsewhere then it negates the need for him or his post to exist and it is this brand of management that can’t, or won’t, accept that they may be to blame, moral hazard in the making.

I wrote about getting into distressed stocks on Tuesday, it seems the Chairman of Anglo made the same decision to give ‘confidence’. I will be more honest, I did it as a vulture buy, no confidence required. Everybody accepts the asymmetry of information, there is no way that a regular Joe like me would have the information or access to vital information that the Chairman of a bank would have about their stock, and that means that you could say ‘anybody could have done this’ but at the same time ‘anybody’ didn’t, a huge share purchase in the knowledge of a government backing being likely to go ahead would naturally cause a significant share price move, if it was done in the full knowledge of the backing going ahead then this could amount to ‘insider trading‘.

finance bill 2008The point is as follows: Our government backing of ‘all banks’ was a mistake because it instantly allowed several things to happen, it allowed competition abuse, it skewed the Irish banking market – there is now a strong case for Ulsterbank, NIB, and Halifax to be included – this means we’ll be covering banks that are fully owned by foreign firms, if we say ‘yes’ to them then why not to the Irish branches of Bank of America? Where does it end?

The responsible decision is to say ‘no’ from the start, the second most responsible decision is to say ‘no’ for any extension to other institutions, the more distortions the more unexpected results. On one hand Ulsterbank have strong backing from RBS in the UK, other local banks don’t have that, and they don’t have the backing of HM Treasury which is probably more reliable than our own Central Bank, it is better to let Ulsterbank seek an audience with British law makers.

The ‘system’ does not collapse if a bank fails, what happens is that risk takers receive the reward of the result of their risk and that can be loss, the USA did not fly into a tailspin when Lehman crashed, the argument was raised for Bear Stearns that ‘it could cause a knock on effect’ and yet when we saw a failure many times the size of that the system is still there and figuring its way through the hard economic climate.

Politicians are leaned upon by vested interest groups such as banks and told that Armageddon is about to befall all of us, that sets off the message of fear and in turn we see ill thought out acts affecting public finance get run through the houses of the Dail or Senate (USA is finalizing their scheme) at breakneck speed [Note: cancer drugs don’t get rushed through and there is actual lives at stake in oncology medicine].

The belief in non-intervention is unpopular with the general public, it is fair comment to say that one reason is because the ethos of such is not properly explained and that people can understand and relate to fear much quicker than they can relate to the basis of market efficiencies. You won’t see it making headlines, but Irish Government bonds are reflecting this, we have to pay more as a country for money, and that comes at a cost, a cost to the taxpayer no doubt.

World GDP is 50 trillion, the derivative market is 500 trillion, those are frightening (but also true) numbers. There is already a massive unwind happening, I believe that the unwind is what is causing a strengthening dollar in a market where the dollar should be tanking. We are seeing the front of it and this credit crisis is far from over, the portion where liquidity is an issue may be over for the short term but for all of the acheivements of the bright new machine it has failed the test of the market and financial institutions don’t have a roadmap to get them back out. Bailout plans have had the same effect of giving a drug addict some drugs when they are in cold turkey, the symptoms may disappear but the problem remains.

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